Market Place; AMRE Drawing Short Sellers

By Floyd Norris

Published: December 19, 1988

IT looks very much like a small-business success story. Started from scratch in 1980, AMRE Inc. has grown rapidly, and its most enthusiastic follower on Wall Street sees more of the same ahead. The ''ultimate sales growth potential is nearly infinite,'' said Dean Witter's David L. Jarrett.

AMRE, which is short for American Remodeling, has been a big success for its shareholders as well. It went public less than two years ago, at $5.33 a share, adjusted for two subsequent splits. It came down in the 1987 crash like most other stocks, but this year it has roared back, and ended last week up 94 percent for 1988, at $14.875 a share on the New York Stock Exchange.

But while AMRE's stock has risen, it has also attracted a growing number of short sellers, who think the shares are overvalued and due for a fall. The short position, the number of shares that have been borrowed and sold, has risen from about 10,000 shares earlier this year to more than 500,000 at the latest report. With more than half the company's shares in the hands of insiders, that amounts to about 9 percent of the public float, the shares available for public trading.

The basic business that has provided AMRE its growth is vinyl siding for homes. It has signed contracts with Sears, Roebuck & Company in a growing number of areas to serve as the local licensee using the Sears name to sell the product to homeowners, and it has added decks and kitchen cabinet facings to the products it sells using the Sears name.

Last week AMRE reported profits of $3.1 million, or 24 cents a share, for its second fiscal quarter, ended Oct. 31. The profits were up 33 percent from the corresponding period a year ago, as revenues rose 43 percent, to $56.7 million.

Those gains were impressive, and the profits were at the high end of the range the company had indicated in earlier forecasts. But a look at AMRE's balance sheet makes it clear why the short position has been increasing. While profits are being reported, cash is flowing out the door. For the first six months of the current fiscal year, the company reported profits of $5.9 million, up from $4.5 million in the corresponding period a year earlier. But it reported cash flow from operations at a negative $1.3 million, in contrast to a positive cash flow of $1.6 million a year earlier.

That stark view, of cash flowing out even as reported profits rise, reflects the company's accounting practices. It uses a form of accounting known as ''percentage of completion,'' in which it records revenues as it does the work, even though it does not send out a bill until the job is completed. That accounting practice is much more common in companies that have large contracts that take years, or at least many months, to complete. AMRE's contracts require 4 to 10 days, said Chris Wesselman, a company spokesman.

When a contract is being worked on, AMRE records sales as ''unbilled revenues,'' and that has become the fastest-growing item on its balance sheet. Mr. Wesselman said the growth in unbilled revenues ''reflects the rise in sales,'' but in fact this item is growing much more rapidly. A year ago, it equaled 14 days of revenues, a surprisingly high figure because contracts are normally completed in less time than that. Now it is up to 20 days. At the same time, the company has also seen an item known as prepaid expenses rising rapidly. Included in that account are such costs as advertising expenses that are designed to attract customers on whom salespeople have not yet called. The larger that figure is, the higher are reported profits.

To short sellers, it looks like a classic pattern of inflating revenues and understating expenses, a pattern that often ends in a write-off. Mr. Wesselman said the company's accounting practices were proper and were periodically reviewed with its outside auditors.

When AMRE began to branch out from vinyl siding, there were great hopes of synergies from having the same salespeople sell siding and decks. It first bought 25 percent of a deck company for $1 million, indicating a total value for the company of $4 million, but later bought the rest of the company for $1.5 million. Its kitchen cabinet operations are relatively new.

In part because the deck business did not live up to expectations, Mr. Jarrett, the Dean Witter analyst, has cut his profit estimate for the current fiscal year from 84 cents to 75 cents a share. But he expects $1.15 next year and says the new kitchen cabinet business, in which new doors are installed on old cabinets, should show explosive growth. A short seller, who asked that his name not be used, noted that the kitchen cabinet business was bought for 15 times book value.

AMRE now is selling for about 20 times Mr. Jarrett's estimate of profits in the current year, and at nearly eight times its tangible book value. With interest rates rising, and some analysts forecasting a slowdown in the home improvement business, the growth implied by those multiples may not be forthcoming.